Break Even Analysis Answers

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6 JULY 2006

This report is derived from the financial information for the years ended 30 June 2007 and 2008. An analysis, evaluation and interpretation of the earning capacity and financial stability of the business has been conduced and subsequent recommendations have been included.


The importance of completing a break-even analysis in profit planning for the business enables the business to determine the total volume of sales needed to make a specific profit figure. The break-even point is the point at which costs equal income (neither a profit nor a loss is made). A break-even analysis would allow the owners to plan for profits, then check to see if actual sales of the business equal the planned results.


The earning capacity or the ability of the business to maintain or improve profitability has remained constant over the two years.

The Gross Profit ratio, which measures the gross profit per dollar sales has experienced a slight change from 40.38% (2005) to 40.28% (2006). However, the ratios in both years fall below the corresponding industry averages of 45% (2005) and 43% (2006). This marginal improvement may indicate that management is further decreasing its control of the cost of goods sold.

The industry average for the net profit ratio has been 9% for the past two years. However, the net profit per dollar sales is slowly decreasing, therefore reducing the business’s profit margin. In 2005, there was 8.85 cents out of every dollar available for net profit, this has decreased to 8.3 cents in 2006. It appears that management may not be monitoring expenses closely enough. The Administrative and Selling Expenses have increased dramatically in the twelve months. The short-term debt finance, bank overdraft has increased and so too has the long-term loan. As a result, the interest on loans is high and is etching away at the profits.

The return on investment provided by the owner (leverage) has reduced from 9.7% (2005) to 8.9% (2006) and both returns on investment are below the industry for the respective years. The returns being 13% (2005) and 12% (2006). The owner needs to have confidence that their investment is earning a consistent and solid return otherwise, they may seek alternative investment prospects.

It is recommended that sales be increased through a smart strategic advertising/selling campaign and at the same time keep the cost of goods sold to a minimum.

An investigation needs to made in the main operating expense areas, being Selling and Distribution, Administrative and Financial Expenses. Research needs to carried out into pricing practices, credit control procedures, loan requirements and advertising/selling strategies.

Once recommended research has been carried out and new and improved techniques and procedures implemented, there should be an improvement in the owner’s return on investment. It is imperative that the owner is assured of